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Comment by encoderer | Hacker News Reader

It's like you understand the theory but not the practice of how this works?

In reality, you "short" a stock by purchasing a Put option. For example, these are made up numbers, but if you thought Apple would tumble on earnings and wanted to short it, you'd buy, say, $525 put options. This is a contract to sell 100 shares of apple at $525. It's worthless if they trade above $525 but if it drops below, you're in the money.

Suppose you pay $150 per contract, and you short 1000 shares -- 10 contracts. The most you can lose is $1500. And if the stock tumbled down to, say, $475, you would make $525-$475 = $50 * 1000 shares = $50,000, or $48,500 profit.

But the most you can ever lose is what you paid for the options.

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Shorting and buying put options are not the same thing.

And that's exactly it. The commenter doesn't understand the wildly different processes or effects of going those two different routes.

For one thing, a put (or call) option doesn't even trade on the same markets (usually), has a lot less liquidity (usually), and depends on the supply of people willing to write contracts against positions they already hold. (non-naked) Options also have the effect of limiting any possible loss to the price paid for the option.

When you short a stock, your loss is potentially UNLIMITED. In practice, your broker will buy the stock for you with whatever cash you have on hand if the price moves against you.

That doesn't happen with options but you also don't get the huge sums of money to play with by borrowing against a stock that you don't own but are positive will dive into the dirt.

edit: explanation.

Sorry man, but this is just incorrect.

Taking a short position on a security is a strategy.

Buying Puts is a tactic. Short Selling is also a tactic. Both accomplish the same goal of holding a short position -- making money when the price drops.

If you want to take a short position, you can buy Puts. And to wit, if you're a retail investor wanting a short position, this is most often how you'd do it.

Trading the derivitive here is a smarter play for precicely the reason I mentioned: It limits risk. Liquidity on the options market doesn't matter at all because if the price rises, your Puts are worthless anyway. And if it drops, you don't need to sell the contracts, you can execute them (on margin if necessary) and unwind the position that way.

No sir. You are wrong.

"Going short" a security has a very specific meaning in the equities market. Same with "going long".

And buying puts is NOT the same thing. You've completely forgotten about the concept of premium and time value when pricing an option. For one thing, options are sold at MANY price levels (strike prices) and expiration dates.

Seriously man, with all due respect, you're so mistaken its scary. One of my colleagues designed the NYSE trading network and back-office trade clearing systems. This is how I earn my living. I'll bet you your 401(k) you can't get a floor trader to endorse that explanation you just gave. It's so wrong that I'm only commenting to give other people a chance to learn from your mistake.

Guys like you are how guys like me make money.

Just to drive home my point:

Here's the pricing for a put option on AAPL to sell the stock at $450. Expiration 16-Jan-2015 (roughly one year from now):

40.11 Down 3.09(7.15%) Jan 27

http://finance.yahoo.com/q?s=AAPL160115P00450000

That price is per share. So, for roughly $4011, you can buy the right to SELL 100 shares of AAPL between now and Jan-2015 for about one hundred dollars per share LESS than what it's closing price was yesterday. Figuring in the premium, that's about $140 loss per share built into that trade yet there are 1300 OPEN contracts for just that. By your thinking, those puts should be worthless, right?

Moreover, there are already ~1300 OTHER put contracts out there at this exact same strike/expiration. What was the volume yesterday in those contracts?

15. Fifteen fucking contracts.

Hey...what about at $550 strike? 12 contracts.

Liquidity and premium are important. A lot of the time liquidity is the MOST important thing. It doesn't matter what price someone else got if you can't get that price because there isn't a counter-party to trade with.

You can't buy what someone else isn't willing to sell and you can't sell what someone ain't buying.

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